I have done some research on funds which specialise in bonds. They have some impressive 5 year returns with one of the funds returning over 40% over 5 years. I looked into their holdings and it was a mixture of uk gilts with yields around 4 percent. How is it positive to produce a return on investment of 40 percent with only 4 percent a year?
Martinghoul
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Current yield doesn't tell you anything about the past performance of these funds. These funds have bought bonds very cheaply (when yields were very high), which is how they achieved these impressive returns (as well as the coupons).
I don't know too much about bonds. I thought you only received a certain yield which would be paid back over a certain amount of time and the yield would remain the same. For example spending £100 on a 1 year bond with yield 5% would return £105 after a year. I didn't think there was any other way to make money on a bond. I've never seen a 20 percent british bond ever before which is what the bond manager holds most of.
Martinghoul
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That's not how bonds work for an institutional investor, such as these funds.
The Leopard
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No, one can make a capital gain on bonds.
For example in 2008 financials in particular crashed out big time. Many fell to 50% or less of their face value.
Astute bond managers - such as Richard Woolnough - anticipated this and held no financials (no mean feat considering they make up around half of the investment grade market).
As it started to become clear that governments were not going to let banks go bust, the value of their bonds shot up massively. Some astute managers bought back into them around this time and made huge (for fixed interest) profits.
The value of bonds - what you buy or sell them for - fluctuates just like anything else. That is the mechanism by which the yield changes (otherwise it couldn't, because for the vast majority the coupon is fixed).
